Brazil meets the minimum requirements for a democracy under the rule of law. During the first half of president Lula’s term of office, standards of stateness and the rule of law have remained unchanged. The quality ofpolitical participation has improved slightly during recent years, due to the Lula government’s efforts to open decision-making processes at all levels of the political system to civil society participation. The level of consolidation of democracy has not changed significantly. A larger step toward consolidation would require reforms in the electoral and party systems in particular. In this respect there were no successes to be noted. The level of satisfaction with democracy, democratic convictions and interpersonal trust within Brazilian society still reflect very low values, though one cannot infer from these a threat to democratic stability.

The country’s level of development has not changed significantly in the last years. The HDI value and the Gini Index remained almost unchanged. Brazil continues to be one of the countries with less distributionary justice worldwide. Despite President Lula’s strong commitment to fight poverty and inequality, the overall poverty level has not changed significantly in recent years. The institutional framework for market-based action has slightly improved. Like its predecessor, the Lula government is committed to modernize the country’s economic system. Notwithstanding several accomplishments, there are challenges that need to be addressed. Overall economic development has slightly improved both quantitatively and qualitatively during the last years. Some macroeconomic data (growth, exports, imports, budget, debt) have enhanced, while others (inflation, investment, credits) have remained more ore less unchanged. Unemployment declined somewhat in 2004, but remains high compared to 2001. The size of the informal sector could not be reduced significantly. The Lula government has undertaken several initiatives to further embed the Brazilian market economy in a social welfare policy framework. It remains to be seen whether these initiatives will result in fundamental improvements in the next years.

After two years in office, the public approval of president Lula’sperformance in government remains high. However, conflicting views inside the government and the Workers Party (PT) on some key issues, as well as the fragmentation of its political alliance in Congress, undermine the sustainability of the ruling coalition. As political parties have already begun to position themselves in preparation for the upcoming presidential campaign of 2006, President Lula and his government may face increasing difficulties in realizing major reforms during the second half of their term of office.

B. History and characteristics of transformation

Democratic transformation in Brazil spanned a period of 16 years. The first steps toward liberalizing the authoritarian regime (1964–1985) were taken after General Geisel assumed power in March 1974 and were continued under President Figueiredo (1979–1985). Brazil experienced the most massive political mobilization in its history in connection with a campaign in early 1984 to institute direct election of a democratic president (“diretas já”). The armed forces, however, insisted on indirect election of the first civil government since 1964. Tancredo Neves was elected president by an electoral assembly in January 1985. Due to his personal integrity and popularity, he found acceptance even among those opposed to the government, but he died before he could take office. The office was assumed by the elected vice president, José Sarney (1985–1990). During the Constitutional Convention (1987–1988), the military prevented a far-reaching limitation of its institutional autonomy. The new constitution took effect in October 1988.

The transition to democracy came to a close on March 1990, when the first directly elected democratic president, Fernando Collor de Mello, assumed office. Implicated in a corruption scandal, the populist Collor was removed from office by Congress in September 1992. Vice President Itamar Franco served out the remainder of his term. The internationally renowned sociologist Fernando Henrique Cardoso won the presidential elections in October 1994. In 1998, after the constitution had been amended to allow his re-election, Cardoso became the first president in Brazilian history to be elected to a second term of office (1999–2002). Democracy as a form of state and government became more firmly established under Cardoso.

When the former union leader and Workers Party (PT) chairman Luis Inácio Lula da Silva, known as Lula,was elected president on October 27, 2002, it was the first time in Brazil’s history that the presidency had been filled by a representative of those classes that, until then, had been largely excluded from positions of political or economic power. Thus Lula’s inauguration in January 2003 not only symbolized a socio-political change, it was also linked to the hopes of millions of Brazilians for the reforms needed to fight poverty and inequality more systematically than in the past.

Brazil’s market economy transformation into a newly industrializing country began in the 1930s with a largely insulated home market. It was guided from the end of World War II by the concept of import substitution industrialization (ISI). This policy helped Brazil achieve high economic growth rates over several decades; at the same time it created a series of economic distortions. It did not succeed in producing sufficient competitive pressure to maximize domestic economic efficiency, nor did it succeed in organizing a fully functional banking system or in reducing the risk of balance-of-payments crises. Industrialization was not self-sustaining. Existing economic, social and regional disparities increased further.

The economic situation in the 1980s was characterized by growing unemployment, rapidly rising inflation rates, widely fluctuating gross domestic product growth rates, growing problems resulting from the large foreign debt and rising deficits in the national budget. Aftervarious heterodox economic plans had failed, comprehensive measures were taken, beginning in the 1990s and with more intensity from the mid-1990s on, to stabilize economic development. As finance minister(1993–1994) under President Franco and as president from 1995, Fernando Henrique Cardoso became the architect of a stability and reform policy that brought the country low inflation rates, better managed and moreeconomically budgeted government, and more consistent macroeconomic conditions. However, it also brought growing government debt, extremely high nominal interest rates and only modest growth rates.

Cardoso’s successor Lula and his Workers Party (PT) had fought many of the reforms the Cardoso government put into effect during the 1990s. Theyhad attacked Cardoso as a neo-liberal and insisted on an economic model with a stronger social component, one that answered more to the needs of people than to those of the banks and corporations. But as time went on during the Cardoso administration, even the PT had to admit that many of the Cardoso government’s policies had produced results that were better than the opposition had expected. When, after three vainattempts in 1990, 1994 and 1998, Lula was finally elected to the presidency by a clear majority in 2002, it was not only because he hadpromised fundamental continuity with the course already chosen and had presented himself as substantially more moderate than before.

Lula promised to fulfill Brazil’s obligations to international financial institutions and to maintain the stability policies of his predecessor. He demonstrated a strong sense for the insecurities and doubts that he, and especially his party, had aroused in Brazilian society and in the international world of finance. At the same time, he made the struggle against hunger and for more social justice central issues of his campaign. The Lula government found itself confronted with great challenges, the high expectations within its own following being one ofits greatest problems.

C. Assessment

1. Democracy

1.1. Stateness

The state’s monopoly on the use of force is established nationwide inprinciple, but does not function completely. There are occasional reports of people involved in land rights disputes being murdered by hired killers, who operate in some regions with the connivance of the police and local authorities. In several large cities the state is unable to completely guarantee private and public security. While on the one hand private security services and fortified residential districts are expanding, the less affluent on the other hand feel abandoned by the state’s security organs. All citizens have the same civil rights and the vast majority fundamentally acknowledges the state’s constitution. The state is defined as a largely secular order. Religious dogmas have no noteworthy influence on politics or law. The state’s basic infrastructure extends to the entire territory of the country, but its operation is to some extent deficient. The state apparatus operates efficiently and professionally in some regions, while others are still characterized by clientelism and patronage, and demonstrate considerable need for reform. Further problems are caused by widespread corruption and organized crime and violence. A climate of lawlessness in certain remote parts of the country and the slums of some large cities is aggravated by a weak judiciary and an often violent police apparatus.

1.2. Political participation

Free and fair elections take place without restraints. Elected rulers have the effective power to govern. The constitution guarantees unrestricted freedom of association and assembly. Freedom of speech and freedom of the press are guaranteed in principle. However, compared to other Latin American countries, the journalist profession in Brazil faces attacks, threats, pressures and obstruction of information, particularly in therural areas. The media provide vigorous reporting on controversial issues and government performance, but media ownership is highly concentrated.

1.3. Rule of law

Thereare no restraints on the basic functions involved in the separation ofpowers, with mutual checks and balances in place. The judiciary isinstitutionally well-differentiated and free from unconstitutionalintervention by other institutions. However, it is extremelyoverburdened, and corruption scandals repeatedly occur. There are vastdisparities in citizen access to legal counsel and the administrationof justice, due to extreme inequalities in the distribution andavailability of information and resources to all citizens. Judges haveused their autonomy to impede court reform and often use their highlyformalistic legal decisions to overturn government modernizationefforts. As a rule, corrupt officeholders are prosecuted underestablished laws, but also slip through political, legal or proceduralloopholes. Civil liberties are formally guaranteed, but are partiallyviolated and not well-implemented in many rural areas as well as incity slums. Most violent crime is related to the illegal drug trade.Brazil’s police are among the world’s most violent and corrupt. In manystates so-called “death squads” terrorize shanty-town dwellers andintimidate human rights activists. The prison system is anarchic,overcrowded, and largely unfit for human habitation.

1.4. Stability of democratic institutions

Democraticinstitutions operate essentially according to their allotted functions,but specific structures of interaction between key institutions createproblems of governance and negatively affect the implementation ofreforms. The constitution of 1988 is characterized by a tendency towardover-regulation. Consequently, nearly all major reforms require aconstitutional amendment and are therefore difficult to achieve. Theelectoral system produces a clear overrepresentation of the sparselypopulated and often disadvantaged northern and northeastern federalstates in the Chamber of Deputies and the Federal Senate. This allowstraditional local and regional elites to more easily insulatethemselves from modernization trends. All relevant political and socialplayers accept the legitimacy and authority of democratic institutions.

1.5. Political and social integration

Thepolitical party system is characterized by a high level offragmentation, moderate polarization, most parties having a poor socialsupport base (an exception being the Workers Party, PT) and high votervolatility. The reasons for this are partly historical, but they arealso connected with the electoral system: The Chamber of Deputies has asystem of proportional representation with open lists without a barringclause. The parties present regional lists of candidates, but votersmay vote directly for individual candidates, as approximately 90% ofvoters in fact do. This system makes it more difficult for nationalparty leaderships to discipline elected representatives, and it fostersthe traditional focus on personalities rather than institutions,particularly because political campaigns are planned and financed lessby political parties than by the candidates themselves. At the nationallevel most parties are organizationally weak. There is little partycoordination or loyalty among congressional representatives. Changes inparty affiliations within Congress occur with extreme frequencyfollowing elections, the switch being usually from opposition togoverning parties and often across ideological boundaries. The costs ofa party switch are minimal. The loose and weak structure of politicalparties makes it difficult to predict the outcome of congressionaldecision-making processes. Even numerical majorities of the governingparties cannot guarantee that the executive branch will be able toimplement its reform plans.

The network of interest groups isrelatively close-knit, but dominated by a few strong interests. Laborand capital associations dominate. Despite divergences among competingumbrella organizations, trade unions are strong political actors.Following democratization there was a gradual estrangement fromtraditional corporatist state models. Mobilization capabilitiesdiminished during the 1990s and the level of trade union organizationis presently on the decline. Entrepreneurs have a national umbrellaorganization, with the National Confederation of Industries in SãoPaulo State wielding the greatest influence.

Consent todemocracy is low (2004: 41%), as is the degree of satisfaction withdemocracy (2004: 28%), but political protests do not tend to questionthe constitutional framework. This data must be interpreted in thelight of the Brazilian experience under an authoritarian regime, whichfrom the mid-1970s was less repressive than those in many other LatinAmerican countries. Political parties, elections and legislatures had acertain significance even under autocratic rule, and the economicbalance under the rule of the armed forces was not entirely negative.

Interpersonaltrust is very low (2004: 4%). There is, nevertheless, a robust networkof autonomous, self-organized groups and civic organizations. Amongthese is a growing number of non-governmental organizations.Traditional social movements are also active, most notably a movementof the landless founded in the mid-1980s that mounts high-profileprotests against the neo-liberal economic policies and social injusticeand organizes land occupation.

2. Market economy

2.1. Level of socioeconomic development

Socialexclusion is quantitatively and qualitatively extensive andstructurally ingrained. Although Brazil exhibits a medium level ofdevelopment according to key indicators, national mean values maskextreme disparities between a relatively developed southern andsoutheastern region, where, to some extent, conditions resemble thosein industrialized countries, and a socioeconomically disadvantagednorthern and northeastern region. The existing developmental imbalancesbetween these regions have not lessened in recent years. Evidence showsthat the high inequality levels one finds between regions areequivalent to the ones existing within one region, or even within largemetropolitan centers in all regions. This points to the fact thatsocial inequality is pervasive and not something simply derived fromregional differences. With a Gini index value of 59.1, Brazil isglobally one of the countries with the most inequitable distribution ofincome.

2.2. Organization of the market and competition

Marketcompetition has a strong institutional framework, but the informalsector generates about 40% of Brazil's GDP. Pricing is largelyunrestricted. The use and transfer of profits is not regulated. Theconvertibility of the national currency, the Real, is guaranteed, andthere has been a free-floating exchange rate since January 1999. Sincethe Competition Act went into effect in mid-1994, a coherentanti-monopoly and anti-cartel policy has evolved. Foreign trade hasbeen liberalized during the last decade. The degree of openness ismeasured by the level of exports plus imports of goods and servicesincreasing from 22% to 31% in the last five years as compared to theGDP. Nevertheless, there are still special exemptions and somewhatcomplicated registration formalities. Customs duties for imported goodschange frequently. Imports from countries outside the Mercosur areconstrained by high tariff and non-tariff barriers. The comprehensivere-organization of the financial sector was one of the most remarkabledevelopments in the Brazilian economy of the 1990s. Today, the bankingsystem and capital markets are well-differentiated, internationallycompetitive and aligned to international standards, with a functioningsystem of banking supervision. Capital markets are open to domestic andforeign capital. But although Brazil’s financial sector issophisticated and systemic risk is low, it lacks depth, andintermediation spreads are among the highest in the world. Brazil’spublic banks hold more than 40 percent of financial sector assets, buteven with the large role of public banks, access to financial servicesis unevenly distributed, to the disadvantage of the poorest. Smallentrepreneurs have little access to finance options. Financial servicesto small-scale entrepreneurs as well as microfinance and non-bankfinancial services should be expanded in order to encourage growth andemployment.

2.3. Currency and price stability

Inflationand foreign-exchange policies are synchronized with other goals ofeconomic policy and are institutionalized in a largely independentcentral bank. The Central Bank is broadly perceived as being de factoindependent, even if it is de jure not granted total operationalautonomy. There is a consistent policy for stability. Since theintroduction of the Plano Real in 1994, there has been a drasticreduction in inflation rates. Macroeconomic stability and the controlof inflation was one of the Cardoso government’s priorities, and theLula government follows the same course. The Fiscal Responsibility Act(Lei de responsabilidade fiscal, LRF), passed in May 2000 by theCardoso government, subjects all levels of public administration tocriteria of transparency and coordination and makes them responsiblefor their fiscal performance. It sets guidelines for primary surplusgeneration and debt limit maintenance, and it limits salary increasesfor civil servants. Governments have been issuing medium-term inflationtargets since 1999 (“inflation targeting”), and the central bank takesresponsibility for observing them. In 2003 and 2004, the central bankfollowed a very tight monetary policy. In order to reach inflationtargets, it lifted base rates to a very high level (18.25%). After theReal’s exchange rate was made fully convertible in January 1999, itrepeatedly experienced massive devaluation pressure. Since 2003,however, the currency has strengthened significantly against the UnitedStates dollar. In 2004, the Central Bank intervened in order to keepthe exchange rate at a competitive level.

2.4. Private property

Privateproperty rights are well-defined and property acquisition is adequatelyregulated. Under President Cardoso, Brazil went through a radicaltransformation in forms of corporate ownership. For decades,state-owned corporations had dominated nearly all economic sectors, inwhich no private capital was available. Privatization was initiated byPresident Collor (1990–1992), but was not continued by his successor,President Franco (1992–1994). President Cardoso introduced and carriedout a comprehensive process of privatization on the basis of severalconstitutional amendments. State monopolies in key sectors of theBrazilian economy (e.g. energy, telecommunications) were abolished,while other sectors were radically liberalized. Privatization iswell-advanced in many areas, including the raw materials industries,transport and energy sectors and telecommunications. Regulation ofliberalized economic sectors was arranged through framework legislationand in many cases assigned to newly established authorities that enjoytechnical, financial and administrative autonomy. The Lula governmenthas not carried on the privatization policy of its predecessor. Itfollows the idea that the state should play an active and managing rolein achieving both economic growth and social justice. Accordingly, itstopped further sales of existing public enterprises. In 2004, thegovernment launched a proposal of public-private partnerships, which isthought to attract private investment to supplement the publicexpenditures for infrastructure limited by tax and budgetaryconstraints.

2.5. Welfare regime

Socialwelfare networks to compensate for old age, illness, unemployment anddisability are partially well-developed, but do not cover all risks forall strata of the population. Over the last decade, Brazil carried outsignificant reforms to expand the coverage, quality and efficiency ofits health system and strengthen its safety net. Infant mortality fellby more than a third, maternal health has improved, mortality frominfectious diseases has decreased substantially. Nevertheless, the riskof poverty and hunger continues to be high for significant portions ofthe population. President Lula was elected on a platform thatemphasized rapid and far-reaching improvements in people’s welfare. Theeffects of the government’s high priority social initiatives, includingefforts to eradicate hunger (Fome Zero), create youth employment(Primeiro Emprego), and unify social transfer programs for greatereffectiveness in reducing poverty (Bolsa Familia), have so far comeshort of expectations. The government has realized an ambitious socialsecurity reform, with far-reaching fiscal and equity effects, bringinggenerous public employee benefits more in line with the private sectorwhile introducing a complementary, fully funded pensions pillar forcivil servants. In spite of favorable economic development trends inthe last years, the government’s room for manoeuvre in the socialdomain remains narrow.

Brazilian society is markedlyheterogeneous. Although compensation schemes for those disadvantaged byextreme social disparities do exist, they are insufficient. Womenformally possess equal rights, but face a reality marked by inequalityin both the domestic sphere and professional life. In education, thegaps between men and women have narrowed greatly, and women on averagepossess higher educational qualifications as a result of their moredisciplined study behavior. The visibility of women in public life, themedia and politics is increasing, not least of all thanks to theactivities of numerous women’s organizations.

2.6. Economic performance

Long-termgrowth of per-capita GDP is moderate, with the annual growth ratebetween 1990 and 2002 being 1.3%. In 2002, GDP per capita was 7,770 US$(PPP). Basic macroeconomic data have been very positive during the lasttwo years. In 2004 industrial output grew by 8.3%. This was the fastestrate in 18 years. The output of capital goods was increased by 20%, thebiggest increase in 12 years. The official inflation rate in 2004 was7.5% and the target for 2005 is 5.1%. The six largest metropolitanregions in the country (São Paulo, Rio de Janeiro, Porto Alegre, BeloHorizonte, Salvador and Recife) registered the lowest unemployment ratein December 2004 since the compilation of data from October 2001. Thenumber of unemployed in these cities fell to 9.6%, a drop of 1.3% incomparison to December 2003. The average annual unemployment rate in2004 was at 11.5%, just 0.8% lower than the 12.3% average in 2003. Thefiscal deficit in proportion to the GDP fell to 2.7% in 2004. The mainreason for the fall was an increase in tax collection. In 2003, thefiscal deficit had been 5.1% of GDP. Debt as a proportion of GDP fellfrom 57% at the end of 2003 to 51%. Trade figures showed both importsand exports hitting record levels during 2003 and 2004, leaving Brazilwith a favorable trade balance for the first time in many years.Despite the emergence of positive macroeconomic data, GDP growthcontinues to fall short of the Brazilian economy’s growth potential.

2.7. Sustainability

Ecologicallysustainable development is an issue in some sectors of the economy, buttends to be subordinated to economic growth targets. The threat to therainforests and other serious environmental problems have not beeneliminated. Despite the fact that Brazilian legislation has taken apositive direction in many areas (e.g. water management, forestprotection, biodiversity), the threat to key ecosystems isundiminished. President Lula’s election manifesto included manyenvironmental aspects, e.g. the principle of “transversality,”implementing an integrated environmental policy within the overallgovernment policy. It also promised scope for the participation ofcivil society in controlling public policy, and for involving differentlevels of government in consolidating the sustainable developmentagenda. Following these guidelines, the environmental ministry soughtto strengthen the articulation and coordination of all ecologicalpolicies undertaken by both federal and state agencies. While theadministration defended its record on environmental issues,environmentalists very soon started to complain about the apparentabandonment of various campaign promises, including tough policiesaimed at restraining genetically modified food, nuclear power andAmazon deforestation. Despite the government’s efforts to appease boththe developmentalists and the environmentalists, progress remainsmodest and implementation capacity is weak, compared with the magnitudeof the challenges ahead.

The quality of government and privateeducational and training facilities is improving. Between 1999 and 2001public expenditure on education accounted for 4% of GDP. Educationalexpansion was a notable success during the Cardoso years, but thequality of public schools continues to remain a serious concern. TheLula government has not yet seriously implemented measures in thesector, its concepts and priorities on education being somewhatunrefined. The government’s first minister of education gave priorityto the fight against illiteracy, which, however, remained largelyunsuccessful, leading to his resignation after just one year in office.His successor declared the opening of the universities as his firstpriority. Awareness of the importance of investment in research anddevelopment (R&D) has increased remarkably during the lastdecade. R&D expenditures accounted for 1.1% of GDP between 1996and 2002. Nevertheless, limited own funding remains a severe obstaclefor investments in R&D for two-thirds of private firms. Only11% of researchers work at private firms.

3. Management

3.1. Level of difficulty

Thestructural constraints on governance in Brazil range from moderate tohigh. The country exhibits an average level of development andeducational standards. It is an ethnically heterogeneous and highlysecular society. The overall poverty rate refers to 28 – 29% of thepopulation. Since 1997, poverty levels have remained relatively stablebut the poverty profile has changed significantly. High unemploymentand a permanent reduction of labor income in the industrial sector hasresulted in the increase of urban poverty. Conversely, rural areas havebeen less affected by slowing growth and the macroeconomic volatility.Nevertheless, Brazil’s poverty continues to be largely rural, andextreme poverty is concentrated in the largely semi-arid Northeastregion of the country. The health of Brazilians has improvedsignificantly. Infant mortality has fallen by more than a third. Thenumber of new HIV/AIDS cases has remained constant. Mortality ratesfrom AIDS have also declined significantly since 1998, partly a resultof free universal access to anti-retroviral therapy (since 1996), andpartly due to the government’s strong HIV/AIDS prevention program. Thecountry has strong civic traditions. The vibrant and increasinglyinfluential civil society consists of NGOs, community-basedorganizations, social movements, and professional associations. Thereare no irreconcilable ethnic, religious or social clashes, but thereare extreme social and regional disparities. Brazil is characterized bythe largely peaceful manner in which a multiplicity of ethnic groupslives together, and the country cultivates its image as a society freefrom racism. Even if this does not always conform to realities on theground, the country’s cultural and ethnic diversity and its peacefulintegration into a national society is an enormous socialaccomplishment. It keeps the country and its political system out of atype of conflict that often consumes substantial energies in otherLatin American countries.

3.2. Steering capability

Thegovernment of President Lula da Silva is committed to constitutionaldemocracy and a socially responsible market economy. Its policies givethese goals priority over short-term expediency. Strategic prioritiesof the government are fighting poverty and improving educationallevels. In spite of the very different personal background of formertrade union leader Luis Ignacio Lula da Silva, the policies of hisgovernment have continued many of those implemented by the Cardosogovernment. President Lula was elected in October 2002 on a platformthat emphasized increased social equity and faster growth. On the onehand, the new government committed itself to tight fiscal policy,inflation targeting, and the honoring of debt contracts. On the otherhand, it promised far-reaching improvements in people’s welfare,evidenced by several high priority social initiatives, includingefforts to eradicate hunger, create youth employment, and unify socialtransfer programs for greater effectiveness in reducing poverty. InFebruary 2005, after more than two years in office, the Lula governmenthad an approval rating of 42.6%. President Lula himself had an approvalrating of 66%, implying that thanks to his successful economicpolicies, he has managed to remain very popular.

The governmentis committed to democracy and a market economy, but has so far onlyshown limited success in implementing its announced reforms. A numberof achievements and reforms were offset by many promises and projectswhich have not yet been translated into concrete government policies.The government has made important progress in some key reform areas. Anambitious pension reform, with far-reaching fiscal and equity effects(bringing generous public employee benefits more in line with theprivate sector while introducing a complementary fully funded pensionspillar for civil servants), was realized in 2003. The reform willdisburden the state budget by about €18 billion during the next 20years. The government has also been successful in getting its taxreforms through Congress during its first year. Other projects, such asthe long overdue reform of the judiciary or the agrarian reform, haveonly made modest advances. Shortly after taking office, President Lulamade the unprecedented gesture of personally receiving a delegation ofthe landless movement MST. His administration hired a number of theirkey activists. However, despite of the government’s genuine commitmentto agrarian reform, in 2004 it settled only about 81,000 landlessfamilies. This figure corresponds to 71% of the government's initialtarget of 115,000 families. This was the second consecutive year thegovernment was unable to accomplish its own target. The government'sloan program Pronaf has failed to reach farmers, not least because theprocess of sanctioning loans is highly bureaucratic. Especially duringthe government’s second year in office, the expectations that theagenda of economic and social reforms would advance, have remainedunfulfilled. The government also seems to have lost interest in thereform of the political system itself.

The government’s problemsin effectively implementing its reform policy are in part due toconflicting interests and policy goals inside the ruling coalition, andin part a consequence of formidable institutional barriers to reform,as well as due to a fragmented system of political parties. The federalgovernment’s organizational capabilities also stretch to their limitsin the provisions of Brazilian federalism, which grant considerableautonomy to individual states and municipalities. In view of theenormous regional disparities, it is hardly possible to make generalstatements about the individual states and their reform policies.

Thepolitical leadership responds to mistakes and failed policies withchanges. Learning processes occur. The leadership sometimesdemonstrates its capacity for complex learning and acts flexibly, butat other times its policies remain stuck in long-established routines.Even before taking office, former union leader Lula had demonstratedhis sensitivity to political and economic realities and showed a greatdeal of pragmatism. His government’s policies, even though faced with a“revolution of expectations” with regard to reducing poverty andinequality from a considerable proportion of Brazilian society, haveproved to be based on the “art of the possible”. This was not least dueto learning processes on the part of leading members of the executivewith regard to the functioning of the international economic system.Nevertheless, the government has been criticized for not pursuingconsistent and reasonable policies. One good example of a meaningfulreform that neither the Cardoso nor the Lula administration have beenable to enforce is the reform of the political system. Many experts andparliamentarians consider such a reform as necessary, in order toequalize the representation of the regions inside the parliament, toreduce the number of parties, to increase the efficiency of parliament,and to discourage widespread party switching. Above all, the smallerparties inside the government coalition profit from the currentsituation, which is why the executive would jeopardize the cohesion ofits own alliance in pushing ahead with such political reforms.

3.3. Resource efficiency

TheLula government uses most available resources efficiently. It has to betaken into account that the government was confronted with afrightening fiscal and economic crisis when assuming office on January1, 2003. The debt burden had risen to 63% of GDP, Brazil’s riskcoefficient for the international financial markets had skyrocketed to2400 points, inflation was predicted to exceed 40% in 2003. Brazil wasnot far from default in 2002. The new government implemented measuresthat contributed to gradually restoring confidence, which had falteredduring and in the aftermath of the presidential election in 2002. Thesemeasures have succeeded in stimulating growth, reducing credit risk,stabilizing foreign exchange markets and limiting inflation.

Improvementsin the economy owed much to the new government’s reliable andconsistent macroeconomic policies and to the individual qualificationsof its main protagonists, but they were as much due to thestrengthening of institutions during the Cardoso years, which helpedmaintain macroeconomic discipline. Of particular importance was theinflation targeting framework and the Fiscal Responsibilitylegislation. However, it should also be taken into account that thepositive signs the world economy has recently shown, have significantlycontributed to Brazil's successes. Export performance as one of themajor factors behind this success is a clear indication of this. It isstill too early to assume that Brazil has passed the test of externalvulnerability.

But even if high public debt remains an importantsource of vulnerability, much progress has been made in strengtheningthe institutional framework for public debt management. The currentgovernment has successfully reduced the public sector net debt ratio toGDP and the foreign debt-to-export ratio to the lowest values in a longtime. On the fiscal side, the government has managed to meet its annualbudget targets, even in adverse conditions. Brazil’s tax burden, closeto 40% of GDP, is rather high compared to international standards andclose to the OECD average.

It is difficult to make generalstatements about the quality of administration in the country’s 5,560municipalities, given the sometimes momentous differences. Sections ofthe municipalities have introduced a participatory budgeting procedurethat allows civic organizations substantial opportunities for input inbudgetary preparation and control. Other municipalities seem to preferless process-oriented and more result-oriented measures ofadministrative modernization. However, client relationship patternsbetween administration and citizens have prevailed in a considerableproportion of the municipalities.

With regard to humanresources, the Lula government has followed a course common topresidential regimes preceding him. Following a change of government,thousands of jobs within the public administration were given to newincumbents. Many appointments were favors granted to coalition partnersor union leaders, and very often the new incumbents were not adequatelyqualified and prepared for their position. This has undermined aneffective management of the public administration and caused somesetbacks to government action. On the other hand, the government hasmanaged to limit the greediness of its own party and its coalitionpartners with regard to using public expenditures for personal purposes.

InOctober 2002, representatives of 19 political parties were elected tothe Lower House of Congress. Although the party of President Lulareceived only 17.7% of mandates, it was able to construct a broadparliamentary alliance of seven political parties within a few weeks,which has lasted until this writing. The most significant step was thede facto integration of the conservative PMDB into the governingcoalition. The successful forging of a broad but very heterogeneousruling alliance as well as President Lula’s close cooperation withgovernors from all political parties ensured that important reformscould be passed in 2003. But the price for these successes was high.The allies had to be compensated with posts inside the government andthe public administration. As an opposition party, the PT hadrepeatedly criticized the traditional spoils system of Brazilianpolitics, but it ironically acted in the same manner. With the goal ofattaining a congressional majority, it established a give-and-take,clientelist policy of exchange of favors that started to backfireduring its second year in office, turning the executive somewhat intodependents of old political bosses in the Lower House and in theSenate.

President Lula suffered a significant parliamentarydefeat on February 15. 2005 when his candidate for the presidency ofthe Chamber of Deputies was defeated by another candidate. The setbackcalls into question Lula's relationship with Congress as the presidentfaces a key year, during which he has promised to finally deliver onhis plans for extensive reform. The president’s coalition strategy hasled to growing dissatisfaction within the Workers Party.Intra-governmental frictions increased considerably during Lula’ssecond year in office. While the government’s policies are stronglyfocused on preserving macroeconomic stability, elements in the WorkersParty and former allies in civil society demand more distributivejustice and a major push in the struggle against poverty and socialdisparities.

Over the last few years, Brazil has developed someinternal control regimes to fight against corruption and other forms ofmisuse of public resources and abuse of public authority. The Lulagovernment seeks to provide all integrity mechanisms, most of which arefunctioning. One change introduced by the new government is a moretransparent and inclusive approach to government decision-making,building on successful local experiences, from participatory budgetingto involvement of community associations and local councils in budgetand policy decisions. Through better access to information, theapproach can also help in fighting corruption. In 2002, the supremeelectoral court passed a judgement requiring candidates who participatein the national elections to present their campaign expenditurestatements in electronic form. Although parties have had to renderaccounts since 1993, the new regulation provides a broad picture ofparty financing for the first time. In May 2003, President Lulaestablished the “Council for Public Transparency and the Fight againstCorruption” within the Police Inspector General’s office. Its structureand functions were regulated in December 2003. As it is an advisorybody with no executive or enforcement power, it cannot impose reformprograms on other ministries.

The Fiscal Responsibility Act,passed in May 2000 by the Cardoso government, subjects all levels ofpublic administration to scrutiny based on how they fulfill thecriteria of transparency and discipline. The act makes them responsiblefor their fiscal performance. Certainly, the law puts a check oncorrupt behavior. The federal government and the state governments havenot been involved directly in the corruption scandals of the lastyears. Nonetheless, criminal prosecution of corruption is stillineffective, largely because the justice system is in need of radicalreform. There is a lack of external control, and changes in the penalcode and procedural law would also be necessary to give investigators ameans to effectively stem “impunity.”

3.4. Consensus-building

Allmajor political actors agree on the need to strengthen democracy,though they disagree on which paths best lead to this goal. Sections ofthe ruling Workers' Party (PT) and its civil society allies advocate amore direct model of democracy. There are also conflicting positions onthe relevance of the market economy. While government officials followthe market oriented course of the Cardoso government, a considerablesection of the PT is critical of the Lula government for pursuing thevery same policies, to oppose and fight which the party was in fact atone point launched. While the government itself claims to have movedaway from the “neo-liberalism of the Cardoso years,” its internaladversaries complain about a “continuity of the neo-liberaladjustment.” In this process, the PT leadership has not always actedprudently toward its critics. Some noted party activists have beenexpelled because as Congress members they did not vote for thegovernment’s social security reform. Others have left the party. Aslong as macroeconomic success continues, it is not likely that thegovernment’s internal adversaries will play a major role. However, theconsensus on building a market-based economy is still a fragile one.There are no clearly anti-democratic veto powers in Brazil. Indeedthere are powerful landlords in some rural areas who effectively ownthe local judiciary and police and respond violently to attempts atagrarian reform. The government has been able to prevent an escalationof conflicts within Brazilian society, which is characterized byextreme social disparities and regional differences. Its success inbridging growing social inequities has, however, been rudimentary. Thegovernment has endeavored to promote solidarity, but with littlesuccess.

The participation of civil society, including the roleof various councils and committees at regional, state and municipallevels, can be important for the creation of social capital and moreeffective public policies. The Lula Government conducted consultationsthroughout the country, involving more than two thousand civil societyorganizations representing labor, women's groups, environmentalists,consumer fora, indigenous peoples, Afro-Brazilians, the landlessmovement, religious communities and the physically challenged. It alsocreated and convened popular national councils and fora, embracingdifferent aspects of its policies. President Lula opted to directlydialogue and negotiate with the MST, with the National Conference ofBishops, and with the Brazilian Association of NGOs. However, suchdemocratic inclusion in public policy does not produce sudden reversalsof economic stagnation, unemployment, hunger, poverty, landconcentration and social injustice. On the contrary, it can also leadto growing frustration toward the political system if no results of theinclusionary policies become visible along the way.

Brazil'smilitary regime, which governed from 1964 to 1985, left behind fewervictims than did the dictatorships in neighboring countries. Some 300people were murdered, compared with 3,000 in Chile and at least 10,000in Argentina, much smaller countries. But also in Brazil, thousandswere tortured, jailed or exiled. Survivors make up President Lula’sgovernment. The president himself was imprisoned during the militaryregime for leading strikes. Brazil eased away from military rulewithout a final settling of accounts. Before returning to the barracks,the military declared a reciprocal amnesty, absolving both the regimeand its opponents of their crimes. The armed forces never apologized,nor did the government investigate their crimes and imprison generals.The armed forces have gradually accepted democratic rules, but aprocess of national reconciliation has not taken place. Brazil'sprevious president, Fernando Henrique Cardoso, decreed a doubling ofthe secrecy period for classified documents. However, increasingly,victims are pressing for the access to secret archives. The Lulagovernment has so far reacted with ambivalence to such demands. Yet itseems to be aware that there can be no final reconciliation withouttruth.

3.5. International cooperation

Thepolitical forces have applied international assistance directly to therequirements of their transformation and have demonstrated theiradaptability. In many areas, the Lula government’s reform policies areconsistent with the programs of such international organizations as theIMF, the World Bank, UNDP and the Inter-American Development Bank,often implemented in close cooperation with these organizations.Conversely, organizations like the World Bank appreciate the closecollaboration with the Lula administration and concede that it isguided by a vision for a more equitable, sustainable, and competitiveBrazil.

The government is considered credible and reliable bythe international community. While Brazil’s risk coefficient for theinternational financial markets skyrocketed to 2400 points beforePresident Lula took office, it came down to 400 basis points at the endof 2004, the lowest rate since 1997 (but still higher than the averagefor emerging market economies). International organizations as well asconsulting agencies praise the government’s budget discipline and itsreform policies on the way to a market-based economy.

The Lulagovernment is making active and successful efforts to establish anddeepen as many cooperative international relationships as possible.Relations with neighboring states are constructive. During presidentLula’s first two years in office, Brazil has been able to strengthenits role as a regional power in South America through a more activeforeign policy. Under U.N. command and supervision, the governmentcommitted military forces to Haiti to assist the efforts to stemviolence. Brazil resumed a leading role in the Friends of Venezuelainitiative, created to search for a peaceful solution of the country’sinternal conflicts. Along with the new Argentine president Kirchner,Lula tried to reactivate the Mercosur integration process. He alsomanaged to impede a hasty creation of the Free Trade Area of theAmericas (FTAA) and was a leading actor in the negotiations between theEuropean Union and the Mercosur to establish an InterregionalAssociation Agreement. Some observers affirm that the deadlock in thenegotiations for the creation of the FTAA and in the negotiationsbetween Mercosur and European Union resulted from a lack of pragmatismon the part of Brazil, while others admit that the country veryeffectively defends its national interests. The Lula administrationplayed a leading role in creating the South American Community ofNations in December 2004. Along with countries like India and SouthAfrica, Brazil managed to establish itself as a key player ofinternational trade negotiations during the WTO meeting held at Cancúnin September 2003.

4. Trends in development

4.1. Democratic development

Brazil meets the minimumrequirements for a democracy under the rule of law. Standards ofstateness and the rule of law have been constant over the reviewperiod. The quality of political participation has improved slightly,due to the Lula government’s efforts to open decision-making processesat all levels of the political system and increasing civil societyparticipation.

The level of consolidation of democracy has notchanged significantly. Regression from the level of consolidationalready achieved was successfully avoided. A larger step towardconsolidation would require reforms in the electoral and party systemsin particular. In this respect, there were no successes to be noted.The level of satisfaction with democracy, democratic convictions andinterpersonal trust within Brazilian society still reflect very lowvalues, though one cannot infer from these a threat to democraticstability.

4.2. Market economy development

Thecountry’s level of development has not changed significantly in thepast five years (2000-2004). The HDI value remained almost unchangedfrom 2000 (0.771) to 2002 (0.775). The same goes for the Gini-Index,which from 60.7 in 1998, modified to 59.1 in 2002, meaning that Brazilcontinues to be one of the countries with less distributionary justiceworldwide. In spite of president Lula’s strong commitment to fightpoverty and inequality, the overall poverty level has not changedsignificantly during the period of review.

The institutionalframework for market-based action has slightly improved during the lastyears. Both the Cardoso and the Lula government have been committed tomodernize the country’s economic system. Brazil is less vulnerabletoday to external shocks than a few years ago. Notwithstanding severalaccomplishments, there are some challenges that need to be addressed.

Overalleconomic development has slightly improved both quantitatively andqualitatively during the last years. Some macroeconomic data (growth,exports, imports, budget, debt) have enhanced, while others (inflation,investment, credits) have remained more ore less unchanged.Unemployment declined a little bit in 2004, but compared to 2001 itremains high. The size of the informal sector has not beensignificantly reduced. The Lula government has undertaken severalinitiatives for a better social embedding of the Brazilian marketeconomy. It remains to be seen whether these initiatives will result infundamental improvements in the next review period.

Table: Development of macroeconomic fundamentals (2000-2004)

2000

2001

2002

2003

2004

Growth of GDP in %

4.4

1.3

1.9

0.2

5.2

Export growth in %

14.4

9.0

9.1

21.1

32.0

Import growth in %

9.0

2.3

-13.4

2.2

30.0

Inflation in % (CPI)

4.4

7.1

9.9

8.2

7.5

Investment in % of GDP

18.2

17.4

17.1

17.8

19.6

Tax Revenue in % of GDP

33.3

35.5

35.5

34.9

n.s.

Unemployment in %

7.1

6.2

11.7

12.3

11.5

Budget deficit in % of GDP

4.5

3.6

4.7

5.2

2.7

Current account balance in billion $

-24.2

-23.2

-7.7

4.0

6.5

Source: Banco Central do Brasil

D. Strategic perspective

When taking over the presidential office in January 2003, President Lula said that if at the end of his tenure “each Brazilian can eat three times a day, I will have fulfilled the mission of my life.” Many observers expected a PT government to spend heavily on social issues and initiate a new cycle of growth through increased public investment. To the surprise of many, and to the disappointment of many of Lula’s supporters, the government remained committed to fiscal prudence and honoring Brazil’s debts. Giving priority to economic stability, however, has meant that the government did not keep its campaign promise of eradicating poverty in Brazil. Lula himself has admitted on several occasions that his social programs were not as successful as expected.

Nevertheless, after two years in office, the public approval of President Lula’s performance in government remains high. His personal approval rating was 65% at the end of 2004, while that of his government was at around 45%. The 2004 municipal elections were an important test ahead of the next general elections to be held in October 2006. They brought mixed results for the governing PT. The PT won in 441 towns, nine of them state capitals, and was able to enhance the party’s national position. But the party lost ground in traditional PT strongholds, like Porto Alegre, Belém and São Paulo.

Conflicting views inside the Lula government and the PT on some key issues, as well as the fragmentation of its political alliance in Congress, have made 2004 less productive in terms of structural reforms. The lower chamber of Congress has been at a standstill lasting several months, thus delaying the passage of crucial legislation. The problem was caused less by the opposition than the government’s allies and its own party. Lula’s problems with Congress were manifested in the February 14, 2005 election for the presidency of the Chamber of Deputies. The ruling coalition refused to rally behind the government’s preferred candidate and instead elected a populist candidate from the small Partido Progressista. To make matters worse, the PT is no longer represented in the chamber’s directive body. The government’s diminishing power in negotiating with Congress was also demonstrated by the fact that at the end of March 2005, the government was forced to withdraw a controversial tax decree from the Chamber of Deputies in order to avoid an opposition victory.

The schism in the PT is one of the largest problems currently facing Lula. He must bring all factions of the party back into line or risk undermining his government’s sustainability. The president must force through at least a part of his legislative agenda for 2005, which includes reforms to trade unions and education; otherwise his re-election in 2006 would be seriously endangered.

The realization of far-reaching reforms could be facilitated if some rules of the Brazilian political game were changed. Such reforms could also increase the general efficiency of Brazilian governments and political institutions. Above all, the country would need a reform of the electoral and party legislation in order to diminish the effective number of parties in parliament, to put a stop to permanent party switching and to strengthen the remaining parties. In this way, the political process would become more steady, calculable and professional. However, such reforms are highly improbable before the next general elections in 2006. As political parties have already begun to position themselves in preparation for the upcoming presidential campaign of 2006, President Lula and his government may face increasing difficulties in realizing major reforms during the second half of their term of office.